The Basics of Forex Trading

Forex trading, also commonly known as foreign exchange trading or fx trading, is the activity of buying and selling currencies within the foreign exchange market. Investors and speculators typically look for low buying opportunities and high selling opportunities. Getting involved in fx trading requires the understanding of a few basic concepts. A good grasp of these concepts will set you on the right track for profitable trading.

Pip

 A pip is the unit used to count your profits and losses. In fx trading, all currency pairs at the exception of Japanese yen pairs are quoted to four decimal places. The fourth number after the decimal point is what investors count as pips. For example, if the EUR/USD falls from 1.3021 to 1.3018, investors would say the EUR/USD has fallen 3 pips.

Leverage

Leverage plays a major role in fx trading as the foreign exchange is a leveraged product. Therefore, to enter a forex trade, you are only required to deposit a percentage of the full value of your position of choice. You need to consider leverage when placing a trade as the potential for profit or loss can be significantly higher than your initial small deposit. Leverage options are typically 50:1, 100:1, or 200:1. For example, if you want to trade $100,000 of currency with a leverage of 100:1, you will have to deposit $1,000 into your margin account.

Margin

Margin is at the heart of forex trading. Margin is characterized by the amount of money you require to open a leveraged position. As explained above, should you wish to open a trade position of $100,000 with a broker who offers 50:1 leverage, you would need to put up $2,000 of margin. Should the trade go against you and the equity in your account reach less than $2,000, you would suffer a margin call and be required to put up more margin to keep the position open.

Prices

Forex quotes always position one currency against another called ‘currency pairs’. The base currency is on the left and the counter currency, on the right (EUR/USD). Price movements within the forex market are triggered by currencies appreciating in value (gaining) or depreciating in value (weakening). For example, if the price of EUR/USD is falling, this means that the USD is appreciating, while the EUR is depreciating.